Business inherently has risk. Successful business owners embrace risk creating their own opportunity. They began their business embracing the question: “What if…?”
There are two characteristics to every risk; consequence and likelihood. Consequences can range from mild to catastrophic, the insurance industry labels this as severity. Likelihood can range from rare to very often, this is called frequency.
An owner can classify business risk using these two characteristics. If the frequency and the severity of a risk is low, we might not even consider it a risk. Risks can be categorized into 3 distinct levels of risk:
- High Frequency – Low Severity
- Medium Frequency – Medium Severity
- Low Frequency – High Severity
A Level 1 Risk might be Worker’s Compensation, while a Level 2 Risk might be Commercial Property. Business owners can limit exposure to these risks through good management practices. They cannot eliminate the risk. Some exposure will leak through, even with the best management practices, due to the frequency of the risks.
An entire industry has developed to assist the business owner to forecast potential losses due to these risks, insurance. An insurance company calculates the likelihood of the risk, its potential severity, and establishes an expected loss that can be “shared” by like-minded business owners who wish to avoid these losses. Sharing the risk through a premium then limits the monetary consequences and effectively replaces the risk with a known expense, premium.
A Level 3 Risk is inherently catastrophic in consequence but rare in actual occurrence. Some Level 3 risks are: loss of key personnel, customer, or supplier; terrorism, labor stoppage, kidnap/ransom/extortion, or government administrative/regulatory actions.
With Level 1 and Level 2 Risks, it is easier to rent our insurance coverage, taking on a known expense (premium) to avoid the likelihood of a potential payout. The rent of a Level 3 Risk is high because it takes only one occurrence among many participants for a significant payout. Business owners often avoid renting insurance coverage on Level 3 Risk because of the high cost. They rely on the frequency to protect them from catastrophe. The risk still exists.
Smart business owners can create opportunity out of Level 3 Risks.
Insurance companies are in the business of making money. If they did not make a profit, they would cease to exist. This is only common sense. What if … you owned an insurance company?
Owners can create a Private Insurance Company (PIC) which insures them against Level 3 Risks for their company only. Since we can calculate the likelihood and potential of these events actuarily, we can predict what the probable cost would be for your company (remember your business statistics class, probability times actual cost equals probable cost). What if … you paid your PIC a premium (probable cost plus administrative expenses) and had no loss? The premium less administrative expenses would be your PIC’s profit.
Your PIC would:
- reward you for effective risk management,
- finance unfunded risks,
- provide tax incentives, and
- build equity for future growth.
Your PIC grows annually in value and cash. (Premiums are deductible expenses for your core business while your PIC is located in a favorable tax jurisdiction.)
Smart business owners, who can make use of a Private Insurance Company, can turn business risk into opportunity. An owner whose company has gross revenue exceeding one million dollars a year, high taxable income, future growth plans, and unfunded risks, will find this a worthwhile conversation.
B2B CFO® expertise can create opportunity for you in many ways, call me for a free Discovery Analysis.